A UK based investor has £A to invest for 1 year. Compare all nine possible combinations of

1200 WordsApr 23, 20195 Pages
A UK based investor has £A to invest for 1 year. Compare all nine possible combinations of %-returns from two investment opportunities, UK and USA, given in the table below. Fill in the table and fully justify your answers in words below it. Question 1 Table of this question shows the relationship between expected exchange rate and initial exchange rate of two countries like in USA and UK as given above. There are nine different combination of this table for the comparison of interest rate in UK and USA for getting the result that the investor should or should not invest in which country. 1st we examine option no one in which expected exchange rate is lesser than the initial exchange rate and in UK interest rate is greater then in USA.…show more content…
In difference of exchange rate is high then he/she will invest in UK but if it’s not greater then in USA. 2a. A UK based international financial investor is faced with the following numerical information: £A0 =£10,000,000; Investment period 1 year; i%UK= 3.5% per annum; i%USA= 3.25% per annum; ER0 : 0.6500£ = 1$ Find, and interpret, ERe if uncovered interest parity holds. Answer: By using the above facts and figures, we can find the expected returns both of USA and UK currencies. The expected return of UK currency is (£) 538461.50 and the expected return for US is ($) 500000.00. Here we can see that the UK’s expected return is higher when compared to the return on US dollars. Seeing the above results regarding the expected return of UK and USA currencies, we can conclude that investor should invest in UK pounds, because of a higher rate of return. Here, there are two assumptions that are necessary to note: That investment capital has perfect mobility and perfect substitutability, which means that the investor had the freedom to mobilize their capital (no transaction cost) from domestic to foreign (and vice versa). The ERe (expected exchange rate) will be decreased because the investor belongs to UK and is investing in the UK pounds, rather than in US dollars. The investor will not invest in US dollars due to a lower rate of return and a lower exchange rate. If we see the above table in which exchange

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